Fortress Australia

By Peter Hartcher

1 October 2008 — 12:00am

AUSTRALIAN authorities have moved to an economic war footing in the expectation that the US is heading into a long, deep recession.

Even if US political leaders are able to cajole their Congress members into passing some form of rescue package in the days ahead, American confidence has been hit so hard that a serious downturn is now regarded to be the most likely outcome.

A global slowdown, including a tempering in China's breakneck growth, is now priced into international markets and official Australian expectations. To defend Australia as an island of growth in an ocean of despair, the authorities will use the only two big weapons available - the budget and interest rates.

In the US, both of these are close to exhaustion. Official interest rates in the US are now 2 per cent and the federal budget is in deficit and deteriorating fast.

In contrast, Australian official interest rates are at 7 per cent and the federal budget is in robust surplus, so there is plenty of scope to use both to stimulate domestic demand.

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The Reserve Bank is expected to continue cutting interest rates. And the Rudd Government will not defend the budget surplus at the expense of growth.

The Treasurer, Wayne Swan, has said he will allow the surplus to run down as revenue slows. This will, in effect, stimulate growth. Further fiscal stimulus is also possible if the situation demands.

The chief constraint in stimulating the Australian economy is not any lack of firepower but the risk of inflation. The authorities do not want to ignite a new bout of inflation by stimulating too much.

The "official family" of regulators and policy makers considers Australia to be better positioned to withstand the slowdown than any other developed country. In addition, while the US financial system is infested with bad and doubtful debt for which no market exists, Australian authorities are satisfied with the soundness of the domestic banking system.

As the Government likes to point out, of only 20 banks in the world with a top-line AA credit rating, four are Australian.

The most fragile and fickle commodity in the economic armoury is confidence, which is essential to consumer spending, to bank lending and to business investment. Australian authorities will emphasise the strengths of the domestic situation.

This is exactly what Kevin Rudd did yesterday when he called a press conference to say: "The bottom line is this. Strong regulation, the best regulatory system in the world, strong balance sheets on the part of our banks, as well as a strong budget situation on the part of the Australian Government means that Australia's situation in this period of global financial turbulence is the best that you could have."

The party discipline in a Westminster system is often criticised for being repressive, but today, by contrast with the chaos in Washington, it looks pretty good. Political parties in Westminster democracies put members "under such a discipline in carrying on the common cause, as leaves no liberty of private opinion", according to Britain's Lord Halifax in 1750.

Yet in the US system, where there is plenty of scope for private opinion, the President, the leaders of both parties, and both presidential candidates combined were unable to marshal enough votes to pass the proposed $US700 billion ($850 billion) rescue bill.

As the Washington Post's Ben Pershing said: "It wasn't a party-loyalty vote; lawmakers were asked to vote yes, but they weren't threatened. They (probably) weren't bribed. Add all that up, and you had a power vacuum."

More discipline will be required of both Australian parties. The Opposition Leader, Malcolm Turnbull, privately pledges not to criticise the Government on economic policy during a crisis.

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And the dwindling Government revenues, and falling federal surplus, mean that the Rudd Government will be forced to delay or scale back some of its "nation-building" agenda in the rest of this term, at least.